Hot Targets: Upscale Urban Projects

Earlier this year, a pair of spectacular fires just weeks apart, the first in San Francisco and the second two weeks later in Houston, highlighted the perils of a new trend in residential construction: the mid-rise luxury apartment complex.

In both cases, dramatic aerial images showed roiling flames and a thick column of black smoke towering over each city’s downtown as the fires completely destroyed the projects that were still under construction.

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What the images did not show were many streams of water directed on the fire. That omission was not for lack of capability.

San Francisco authorities said half of the city’s firefighters on duty were at the scene on March 11, while the Houston Fire Department has a national reputation for aggressive attacks and fast stops.

Video: A wood-frame fire roared in San Francisco in March

But in both cases, there was no life or personal property at stake, and the uncompleted multi-story timber construction gave the fire a head start, lots of fuel, and few impediments to growth.

In such situations, crews often target their efforts at protecting nearby structures, according to loss-control experts and firefighting sources.

“These sites are very tight,” said Ryan Scheinfeld, president of national construction at Technical Risk Underwriters (TRU), part of Ryan Specialty Group, based in Chicago.

“These are more dense than the garden apartments of recent decades, and there is pressure to build quickly. Most of the contractors are experienced and careful, but by their nature these [wood-frame] projects are just more volatile than other modes of construction.

“And because of the higher combustible load, incidents go from incipient to catastrophic in very short order.”

Such construction projects are usually worth much more than the single-family homes or low-rise garden apartments that they replace, and are often on an expedited construction schedule.

Due to the increase in the use of wood framing in such projects, the National Fire Protection Association (NFPA) and other industry groups are reviewing risk mitigation standards and best practices. Many underwriters are doing the same.

Urban Trends

Converging economic and demographic trends known as the new urbanism are combining to increase the size and number of such mid-rise high-end projects, according to underwriters.

“We write builders risk for large, wood-frame multi-family projects all across the country.”

“If people did what they know they are supposed to do we would not have these problems.” — Rich Luongo, executive property specialist, Chubb

With such developments “going up everywhere,” Scheinfeld said, “the law of numbers says the losses will be where there is activity.”

Not only are these projects more volatile, they are more valuable.

“Developers are moving from the spread, garden-style to a podium style. We call this urban infill. It varies greatly from city to city based on zoning and existing density, but the pronounced trend is to high luxury in wood frame,” he said.

Based on industry estimates, a city-block-sized garden apartment development can have 30 to 60 units and be worth $20 to $35 million. A townhouse development on the same parcel can go up four or more stories plus basement, have hundreds of units, and be worth $100 million.

Loss Prevention

Rich Luongo, executive property specialist at Chubb, is encouraged that fire-protection groups are reviewing their standards and recommendations, but said that best practices are still care and diligence.

“This is basic blocking and tackling,” he said. “If people did what they know they are supposed to do we would not have these problems. As the senior person in loss-control for Chubb, I walk the buildings we write all the time. We work both top down and bottom up. If we see problems, we make critical recommendations.”

A complicating factor in supervision is that there are multiple operators on any site, Luongo said.

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“There is the general contractor, the project manager, the subcontractors, and often subs can get lost in the shuffle.

“The No. 1 thing is a regulation hot-work program, a fire watch and a three-hour post-work monitoring,” Luongo said. “No hot-work late in the day, especially on Fridays, or on windy days. Quick debris removal and housekeeping. No smoking on the job site — absolutely, positively, never. But go to any job site and you will find butts on the ground.”

On a positive note, he said that “industry and standards groups are aware there is a trend in this construction, and are starting to respond.” The NFPA recently issued a new standard targeted at fire protection during welding, cutting and other hot work.

A Collaborative Effort

The key for insurers when it comes to risk-transfer implications on wood-frame projects is to eradicate hazards and minimize exposures through a loss prevention approach with clients from the outset, said Sam Whitnell, construction and engineering underwriter with Canopius Managing Agents Ltd. in London.

“As insurers, we try to remove what we can by way of risk, but also control those risks which we cannot remove through loss prevention programs such as material handling, housekeeping on site, fire protections and security outside of normal working hours to prevent incidents such as arson.

“This is achieved through site inspections once framing begins, but there has to be a willingness on the contractors’ part to work with insurers and safeguard against any possible threats. This ultimately ensures successful completion of a project, which is the common goal for all parties involved, including financiers.”

Starting early in the process is important, said Gary Keith, vice president of engineering standards at FM Global.

Gary Keith, vice president of engineering standards, FM Global

“Construction is a very vulnerable phase. We work very closely with insureds to ensure that protection systems keep pace with construction.

“Fire protection systems can be installed piece by piece or section by section; they do not have to be installed all at once late in the project. Fire protection has to be managed with the construction schedule regardless of the construction materials or methods,” he said.

FM Global also urges insureds to collaborate with local responders on pre-incident planning.

“The fire inspector is not going to be the one arriving at 3 a.m. on a Sunday,” said Keith. “The local fire commander should know where the job site and building access points are, especially as they change through the project. They have to know where the water supply is.”

At the research level, “we are heavily involved in field operations,” said Keith. “We are comparing existing engineering standards and best practices to what we are finding in the field for all types of projects.

“We understand that clients may want to take advantage of new techniques or trends in construction. We can deal with them directly on a project-by-project basis. But then we work back through our system and check our processes as necessary. We want to take into account model codes and real life.”

That work has led to improved protection systems, and modular approaches to fire protections for projects through all stages of construction.

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“There are some major research projects under way right now, in research and testing, and we hope to see some findings and results soon,” said Keith.

“But the most important thing is for protection to maintain pace with the project.”
Scheinfeld noted that TRU gets involved in projects even before construction starts, and is “very active in loss control. We are on each site multiple times to be sure that NFPA standards are enforced.”

In a small irony, Scheinfeld said that aside from catastrophic loss from fire, the second most common loss for these types of projects is from water.

“They often happen late in the project. The first model units are finished, and there is a leak in the line to the dishwasher. A quarter-inch line can leak a lot of water over a weekend.”

Gregory DL Morris is an independent business journalist based in New York with 25 years’ experience in industry, energy, finance and transportation. He can be reached at riskletters@lrp.com.

Small is beautiful in terms of locally produced food. It is also big business, and grocery-store chains are making their supply chain and risk management process more flexible and innovative as they compete against street-corner markets and local retailers.

A report from the Food Marketing Institute indicates that between 2012 and 2013, three-quarters (76 percent) of all supermarkets added more locally supplied items. Interestingly, for independent grocers an even greater percentage, 92 percent, said they did so.

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It was several years ago, said Rod Parker, general manager for E.A. Parker & Sons in Oak Grove, Va., that big grocery chains began “the push” to have local produce in their stores. Parker Farms processes, inspects and ships fresh-grown produce to major retail and wholesale outlets.

At that time, he said, “there was a big question about who would be able to play and who would not among growers. We decided early that we wanted to play, so we did what we had to [related to insurance and risk management programs]. It was expensive and difficult, but we did it.

“Our liability insurance has gone up from $2 million to $5 million to $10 million,” he said, noting that the organization did not need much help in attaining the insurance it needed.

“Grocery stores and the big-box retailers, especially those with a house brand, want to push the recall exposure down as far as possible.” — Florian Beerli, senior vice president of product recall, ACE Westchester

Citing competitive reasons, Safeway — widely considered a pioneer in this area — declined to talk about its local supply initiatives or the risk management programs behind them.

So, too, have other large grocery companies.

Industry experts said that Publix and Kroger have also made strides in this area, but both companies did not respond to inquiries. Whole Foods, another heavy promoter of local supply, has a policy of not talking to the trade press.

Walmart, in contrast, is considered a laggard in local-supplier outreach. That company made reference to an in-store merchandise-tracking device, but refused to discuss its supply or risk management.

The irony of the official reticence is that supply-chain and risk managers at several of those chains are reportedly exceedingly proud of how their companies have retooled after their initial efforts met mixed results.

“When we and other groups first wanted to stock local products, the supply-chain methodology at the time led us to say ‘no’ a lot,” said a food industry risk manager who asked to remain anonymous.

“Now, our methodology and those of a few others is to find a way to say ‘yes.’ ”

Formalizing Procedures

Sam Lefore Fruit Farms, a family owned farm in Milton-Freewater, Oregon, has been supplying tree fruit to Safeway grocery stores for more than half a century.

“We also work with some independent buyers, but mostly Safeway,” says farm owner Sam Lefore. “We have always had a very low rejection rate, and we carry all the levels of insurance that they prefer.”

Over the past few years, Safeway has formalized its insurance and safety practice requirements, he said. “They got very serious and very organized. We pay for the auditors that they send, and meet with them annually and go over the score sheet.”

Initially, experts said, most big chains demanded the same high levels of insurance coverage and third-party auditing that they did for their major suppliers. Few local suppliers had the time, money, or staff to comply, and were shut out.

At the other extreme, some chains took local suppliers at face value, and accepted any liability as their own.

Neither situation made anyone happy, so a new collaborative approach evolved.

“Some products are inherently safer than others,” said the risk manager. “Salsa is one thing, spinach is entirely another. We first determine what is the inherent risk, then see what insurance and risk management the supplier already has. Sometimes, they are good and sometimes they are short.

“Next, we see what would it take to bring the supplier up to the proper levels, and if it is worth our while to work for that. If so, we consult on their processes, and may even recommend them to a broker to place additional coverage. It’s all very individualized,” the risk manager said.

Product Recall

“We are starting to see more of a thought-out approval process that includes insurance minimums, in which we have been helping the suppliers or co-packers,” said Florian Beerli, senior vice president of product recall at ACE Westchester, the company’s U.S.-based wholesale business.

While he couldn’t discuss specific grocery-chain referrals of suppliers, he said that product recall was a big emphasis and that “business in the recall market [is] being more and more contractually driven.”

“Grocery stores and the big-box retailers, especially those with a house brand, want to push the recall exposure down as far as possible,” but he noted there are practical limits to such an approach.

“There are various solutions. The most common recall limit is $5 million, although some stores do require $10 million regardless of the size of the supply contract. Some of the well-known brands buy their own coverage and require their co-packers to buy coverage to the self-insured retention (SIR).

“Others buy coverage on behalf of the co-packers, then have them cover the SIR. And recently, some big brands are trying to put together group coverage for their suppliers,” he said.

For its own part, ACE focuses on the first-time buyers, so it is at a good vantage point to see the quick evolution of this sector.

“We have adopted a tailor-made approach in which we have base wording in the contract, and then everything else is added by endorsement,” Beerli said.

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That puts the onus on the carrier’s underwriters, but “holding hands with the first-time buyers” is what Beerli said his firm does.

It also enables the company to conduct the education that he believes is also necessary.

“There is still work to do about recall protection,” he said.

Reputational Risk

Balance is the word used most often by Thomas Pegg, deputy director of casualty risk control at the Willis Group.

“Grocery stores are attempting to work more closely with local suppliers,” he said.

“They have found they need a bit more flexibility on contractual risk transfer, but that is very product specific.”

The need for balance in risk management is not just external, based on what is feasible with small suppliers, it is also an internal challenge, he said.

“I know of no other area of concern to these companies above brand protection from reputational risk,” Pegg said. “They have very high standards.”

That mandate could be most easily met with heavily processed, hermetically sealed products from other large corporations.

But consumer buying habits prove that they want knobby heirloom tomatoes and corn with clods of dirt still on the stalks.

More to the point, they are willing to pay more for local produce. Hence, the need for a nuanced approach.

Pegg said that some grocery-store clients have supported their local suppliers in Pennsylvania to achieve the food-handling certifications offered by the state department of agriculture for workers and suppliers.

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He also noted two other factors that play into the local produce trend: “Some of this is being driven, literally, by transportation costs.” Less expensive logistics are important to businesses with razor-thin margins.

At the other end, more customer loyalty programs make it easier to track purchases, which greatly aids in recalls or at least tracing and isolating problems.

“That is a very important development,” said Pegg, “and a critical piece of the supply chain.”

Gregory DL Morris is an independent business journalist based in New York with 25 years’ experience in industry, energy, finance and transportation. He can be reached at riskletters@lrp.com.

Supersized Risks

If any proclamation were needed to confirm that the day of the mega cargo ship has arrived, just look to the notoriously penurious Port Authority of New York and New Jersey spending $1.3 billion to raise the deck of the Bayonne Bridge.

The roadway will be raised 64 feet, to 215 feet above mean sea level with a target completion by the end of next year to allow the new monster container ships access to the sprawling port facilities in New Jersey.

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Megaships are not new, but construction and use are definitely trending up — as is a rise in incidents.

With the coming of the megaships, “the newer tonnage Panamax [300 meters] ships are being moved on to runs that were traditionally considered feeder runs. This means larger vessels in smaller ports. The result is less room for error,” said Capt. Andrew Kinsey, senior marine risk consultant with Allianz Risk Consultants.

“We [already] see a rise in incidents with these size vessels,” he said, noting that “the mega container ships are more likely to encounter incidents during arrival and departure in near coastal or port areas due to the fact that there are fewer ports that accommodate these ships.”

“As a result, the most devastating scenario will involve two of these vessels in a collision situation during arrival or departure. The channel gets very crowded when you have one or two of these maneuvering.”

Construction Trends

Visionary naval engineer Isambard Kingdom Brunel built the 700-foot-long S.S. Great Eastern in London in 1858.

In recent decades, ultra-large crude carriers, or supertankers, have ranged up to 1,500-feet long and 250,000 deadweight tons (DWT). Mostly single-skinned, the majority has been scrapped or retired as floating storage platforms in favor of safer double-hulled tankers.

The latest mega container ships, the Triple-E class, will rival supertankers at 1,300-feet long. Costing $200 million each to build, the Triple-E class will have 18,400 TEUs (the common measure of box container capacity) — the capacity of 18,000 20-foot equivalent units. Standard shipping containers today are 40-feet long.

“The container ships of 18,000 TEUs and greater will have a trickle-down effect that is already being felt,” Kinsey said.

From the perspective of the underwriter insuring the hull and machinery, he said, “the stresses that these vessels are subject to are exponentially increasing as the size increases.”

“If we look at the failure of the MOL Comfort [built in 2007, 316 meters in length, 8,100 TEU capacity, which broke in half off Yemen in June 2013], we see a relatively new vessel built by a quality yard suffering a catastrophic failure; directly attributable to the lack of adequate container weights being provided to the vessel so that the ship can accurately calculate its trim and stability profile for the voyage.

“Couple this with the increase in fuel costs and the pressures to reduce the amount of ballast being carried and you have vessels that are running very high bending and shear force numbers. And actually, these numbers are based on faulty data because the actual container weight is not known,” he said. “Over time, this leads to premature failure of the hull structure.”

Published accounts indicate the MOL Comfort hull and machinery were insured for $66 million. The total loss cost underwriters between $300 million and $400 million in claims.

“The container ships today on the transpacific route are steaming at the same speeds as the clipper ships did. This is a cost savings measure that is here to stay with the new Triple-E class vessels having engines designed for these slower steaming speeds.

“This leads to greater exposures to controlled atmosphere cargo containers and an increase in losses, because these larger ships also need to use feeder ports. So we are looking at increased steaming time, more exposure of the reefer box to mishandling during transhipment and a subsequent increase in [cargo] losses.”

No Special Conditions

For underwriters, “hull and machinery coverage for ships is pretty much standard, tailor-made to the insured’s trade and operations,” said Sven Gerhard, global head of marine hull and liabilities at Allianz.

“There are no special policies or special conditions for megaships. Terms and conditions for a client might reflect the size of ships, for example, by higher deductibles and the insured’s self-retentions for larger vessels.

“There are no fees charged,” he said. “Premiums are driven by multiple factors, including type and size of tonnage, but also deductibles, fleet size, the quality of the insured’s risk management and the past loss experience have an influence on rates.

“This is why it’s very difficult to determine whether a rate change is determined solely by vessel size. It’s, for sure, a fact and probably not a surprise that due to values at stake, such vessels usually pay higher effective premiums than smaller vessels of the same type.”

That is corroborated by brokers.

“For bigger vessels, the premiums are generally higher,” said Robert Waterson, senior vice president of marine at Lockton in London.

That is not so much a deliberate decision by underwriters; rather, it is simply a function of arithmetic, he said.

“There are two aspects to the risk transfer equation for a vessel. One is the risk of total loss, which is easy. The value of the vessel determines the premium.

“The other aspect is the risk of partial loss from any cause. That is highly variable, but the accepted calculation is based on the tonnage. So you can see, larger vessels will pay a higher premium,” he said.

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Waterson also confirmed that Lockton “is certainly working with owners who are ordering larger and larger vessels, especially ‘Cape-size’ bulkers.” Too large for any canal, they have to travel around the Cape of Good Hope or Cape Horn.

“There are bigger earnings for bigger vessels,” he said.

That is especially true of cruise ships. “We have worked with ships worth $1.4 billion,” said Waterson.

“The biggest problem with those is not overall capacity in the market, but rounding up enough subscribing underwriters. Each one takes $5 million to $10 million. It is a big challenge for the broker to line up the slip for $1.4 billion.”

While sinkings garner most of the attention, partial losses are more common. But even in those situations, the megaships present new challenges, said Martin McCluney, manager of hull and liability and U.S. marine practice leader for Marsh in New York.

Now instead of 2,000 to 3,000 containers to be salvaged, it could be 7,000 to 8,000 — all with different owners, he said.

To put that into perspective, the M.V. Rena, which grounded off New Zealand in 2011 and disintegrated in dramatic slow motion over two weeks, carried just 1,300 containers.

“The Rena was a modest sized ship,” said McCluney. “And the New Zealand government was adamant that as much cargo and fuel be removed, and then the wreck salvaged. In decades past, such a wreck would just have been left to the sea.

Bruce Paulsen, partner, Seward & Kissel

“The claim ran to several hundred million dollars. With the megaships, you are looking at about five times the Rena’s capacity. What would that take in time and equipment to salvage?”

Still, McCluney said, the most important factors to underwriters are not the size of the vessel, but the financial stability of the owner, the maintenance of the vessel and the training of the crew.

“You could have a brand-new ship, and if it is run shabbily, size won’t matter,” he said.

McCluney noted that the commercial drivers behind megaships are no different from sprawling malls, factories, or subdivisions. The only difference is that malls don’t sink.

“Insurance for ships is not really driven by size,” he said. “Still, the P&I clubs have awakened to the reality that removal-of-wreck costs do increase substantially with a much larger vessel.”

In such cases, environmental regulations could drive coverage costs higher, but as the rules differ around the world, and as the megaships are still new, there is no sense in the market how that will play out.

Some suggest that if the ships operate several years without major incidents, underwriters may calculate that catastrophic risks are low for the megaships as a class. If there are some losses, and operators balk at higher premiums, then bonds or some other alternate method may be devised for megaships.

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“So far the bigger ships don’t rate as more exposed,” said Waterson at Lockton.

“We have not seen anything about them that indicates they are inherently riskier. But we are all still just feeling our way. There has been nothing to come along yet to indicate anything to worry about. If there are a few losses, and it becomes clear that they were something related to the size, that would change the rating system.”

Training and support for the crew are essential, said Bruce Paulsen, litigation partner with Seward & Kissel in New York.

“Most of the first-class operators train and treat their crews well. But it is still a hard and lonely existence for the dozen or two people on these ships. There are also substandard operators in the world, but they don’t come to the U.S. You could not bring a rust bucket without certification and insurance into Port Elizabeth [N.J.]. The Coast Guard would not let you in,” he said.

But while casualties tend to be fewer, they are bigger — such as Comfort, Rena, Costa Concordia, the Deepwater Horizon oil rig, and the recent Korean ferry disaster, Paulsen said.

“With the megaships, there is only a marginal increase in risk. They are more difficult to navigate, and they present more windage. They require taller and wider cranes, and not every port can handle them,” he said. “If there is a grounding or a collision, there is more cargo and fuel to try to salvage.

“But from a risk-management perspective, the shipping industry has done a very good job.”

Gregory DL Morris is an independent business journalist based in New York with 25 years’ experience in industry, energy, finance and transportation. He can be reached at riskletters@lrp.com.